United States: The Year In Bankruptcy: 2012

December 2012 marked the fifth anniversary of the beginning of the Great Recession, which officially began in December 2007 and ended in June 2009 (at least in the U.S.). Five years down the road, the U.S. economy is undeniably on the road to recovery, with unemployment down to 7.8 percent from a high of 10.2 percent in October 2009, a significant drop in mortgage-foreclosure rates, and a housing market strengthened by the lowest mortgage rates in history. Even so, the recovery is shaky. Much remains to be done to restore the world's largest economy to sustainable growth and a positive outlook.

Characteristically divisive U.S. lawmakers in the dysfunctional 112th Congress actually failed to reach a deal in 2012 to avoid hurling the nation over the "fiscal cliff." However, in a (post)-last-minute ploy to prevent automatic spending cuts, the largest tax increase in U.S. history, and a relapse into recession, Congress worked out a compromise on January 1, 2013, that, among other things, repeals most of the Bush-era tax cuts for wealthy Americans, avoids tax increases on middle-class families, temporarily defers deep military and other government spending cuts, restores financial aid to farmers, and extends unemployment benefits.

Now for the bad news. For the fourth year running, the U.S. ran a deficit in excess of $1 trillion for the fiscal year ("FY") ending September 30. Also, in a reprise of 2011, the U.S. reached its legal borrowing limit on December 31, giving Congress just four months (as extended pursuant to a deal reached in late January) before it must raise the debt ceiling (again), or (again) risk causing the government to default on its bills and financial obligations. In addition, the "sequestration" automatic spending cuts avoided on January 1 were only temporarily deferred. Stay tuned for Fiscal Cliff II.

U.S. unemployment remains stubbornly high, compared to the 4.9 percent unemployment rate in December 2007. At the end of 2012, 12.2 million Americans were unemployed (not counting the underemployed and those who have dropped out of the workforce). The U.S. Labor Department reported on January 4, 2013, that American employers added 155,000 jobs in December, leaving the unemployment rate unchanged at 7.8 percent, the level at which it has more or less remained since September. Overall, the country added 1.8 million jobs during 2012.

Food prices in the U.S. spiked at the end of 2012 and will continue to be higher in 2013, after the nation's worst drought in 50 years - 2012 was the hottest year ever recorded in the contiguous United States - sent prices for corn, soybeans, feed, and related products (e.g., ethanol and meat) soaring.

A report released by the U.S. Education Department and the Consumer Financial Protection Bureau in July 2012 estimated that total outstanding student-loan debt in the U.S. for the first time exceeded $1 trillion (with an average loan balance of more than $23,000), surpassing the total U.S. credit-card balance ($693 billion) and the total U.S. auto-loan balance ($730 billion). Moreover, as the number of people taking out U.S. government-backed student loans has exploded, so has the number of those who have fallen at least 12 months behind in making payments - about 5.9 million people nationwide, up about a third in the last five years. In all, nearly one in every six borrowers with a student-loan balance is in default. Student-loan debt collection is a booming business. In FY 2011, the U.S. Department of Education alone paid more than $1.4 billion to collection agencies and other groups to hunt down defaulters. On July 6, 2012, President Obama signed legislation freezing federally subsidized student-loan rates for a year, averting a doubling of interest rates. The change helped more than 7 million students.

The latest U.S. Census Bureau data shows that the number of impoverished Americans increased from 49 million in 2010 to 49.7 million in 2011. The report also states that nearly 20 percent of American children continue to live in poverty. In September 2012, the Bureau reported that the income gap between the wealthiest 20 percent of American households and the rest of the country grew sharply, as an overwhelming majority of Americans saw no gains from a weak economic recovery. Median household income after inflation fell to $50,054, a level that was 8 percent lower than in 2007, the year before the recession took hold.

Fewer Americans filed for personal bankruptcy in 2012: 1.13 million individuals filed for bankruptcy last year, 14 percent fewer than in 2011, and the fewest since 2008, according to Epiq Systems, Inc.

Only 51 U.S. banks failed in 2012, compared to 92 in 2011, 157 in 2010 (more than in any year since the savings and loan crisis of the early 1990s), and 140 in 2009. The number of bank failures was the lowest since 2008, when 25 banks failed. Since 2008, a total of 465 banks with assets aggregating more than $680 billion have been closed by regulators. On the basis of recent trends, however, it appears that the U.S. banking system is slowly stabilizing as banks complete divestitures of toxic mortgage assets. At the close of FY 2012, the number of banks on the Federal Deposit Insurance Corporation's confidential "problem list" fell to 694 - about 9.6 percent of all federally insured banks. At its peak in the first quarter of 2011, the number of troubled banks was 888, or 11.7 percent of all federally insured institutions.

Headlines in 2012 continued to herald the dire financial straits of U.S. states and municipalities. A variety of factors have combined to create a virtual maelstrom of woes for U.S. municipalities - a reduction in the tax base caused by increased unemployment; plummeting real estate values and a high rate of mortgage foreclosures; questionable investments; underfunded pension plans and retiree benefits; decreased federal aid; and escalating costs (including the higher cost of borrowing due to the meltdown of the bond-mortgage industry and the demise of the market for auction-rate securities). The burden has been too great for some municipalities to bear. Some have turned to chapter 9 bankruptcy protection for relief.

California led the charge in 2012, with three of its municipalities filing for bankruptcy, including the largest U.S. city to file for chapter 9 protection (the City of Stockton). In all, 15 municipalities (most of which were water and sanitary districts, hospital authorities, or state-run off-track betting enterprises) filed for bankruptcy protection in 2012, compared to 13 in 2011 and 7 in 2010.


Business bankruptcy filings dropped off in both FY and calendar year 2012. However, public-company bankruptcy filings remained the same. According to data released by the Administrative Office of the U.S. Courts, business bankruptcy filings in FY 2012 totaled 42,008, down 16 percent from the 49,895 business filings reported in FY 2011. Chapter 1 1 filings fell to 10,597, down 12 percent from the 11,979 chapter 11 filings reported in FY 2011.

According to court data compiled by Epiq Systems, there were 7,760 business chapter 11 filings in calendar year 2012, compared to 8,658 filings in 2011, a decline of approximately 10 percent. All told, commercial bankruptcy filings fell 22 percent in 2012 to 57,788. The drop-off can be attributed to a number of factors, including the continuation of an "amend and extend" (or "extend and pretend") mentality by many lenders loath to redeploy capital in a market with historically low interest rates.

The number of bankruptcy filings by "public companies" (defined as companies with publicly traded stock or debt) in 2012 was 86, according to data provided by New Generation Research, Inc., tied for the fewest since 2007. There were also 86 public-company filings in 2011, whereas 106 public companies filed for bankruptcy in 2010, and 211 did so in 2009.

The year 2012 added 14 names to the billion-dollar public-company bankruptcy club, compared to 12 in 2011, 19 in 2010, and 52 in 2009. Counting private-company and municipal filings, the billion-dollar club gained 22 members in 2012.

The largest bankruptcy filing of 2012 - Residential Capital, LLC, with $15.7 billion in assets - was the 35th-largest filing of all time, based upon asset value. Nineteen public and private companies with assets greater than $1 billion exited from bankruptcy in 2012. In a change from recent years, more of these companies reorganized than were liquidated or sold. Two of the most prominent names on the list were Lehman Brothers Holdings Inc., the largest bankruptcy filing ever (which returned a 100 percent recovery to brokerage customers), and Washington Mutual Inc., the second-largest bankruptcy of all time.

According to Standard & Poor's ("S&P"), the global number of corporate defaults in 2012 exceeded the number of defaults in 2010 and 2011. A total of 82 issuers defaulted in 2012, surpassing the 53 defaults in 2011 and the 81 defaults in 2010. However, the number of defaults in 2012 was significantly lower than the 264 defaults recorded in 2009. Forty-seven of 2012's defaults were based in the U.S., followed by 22 in emerging markets. Nine were based in Europe, while four were based in other developed regions. Missed interest or principal payments and bankruptcy filings were the top reasons for defaults in 2012, followed by distressed exchanges.

Completed distressed-debt and bankruptcy restructuring activity totaled $422.6 billion over the course of 2012, according to Thomson Reuters, a 102.6 percent increase compared to the $208.6 billion accrued during 2011. In total, 430 deals totaling $470.8 billion were announced in 2012 - 344 fewer deals compared to the same period in 2011. Activity was led by Greece's $263.1 billion debt-exchange transaction, the largest restructuring deal on record. U.S. deal activity totaled $61.6 billion in 2012, a 19.2 percent decrease from 2011. There were 129 announced U.S. restructuring transactions during 2012, 107 fewer than in the previous year.


The outlook for 2013 in the U.S. business bankruptcy world looks much as it did in each of the past two years. Low interest rates and freer credit markets mean that troubled companies (as well as their lenders) are less likely to opt for a reorganization strategy that incorporates a garden-variety bankruptcy filing. As in years past, prepackaged or prenegotiated chapter 11 cases and quick-fix section 363(b) sales are likely to be the norm. Bankruptcy prognosticators have highlighted the health-care, real estate, retail, shipping, energy, and professional sports sectors as having companies deemed "most likely to fail."

The transformation of chapter 11 bankruptcies during the 35 years since the Bankruptcy Code was enacted in 1978 has prompted calls for a hard look at reform. A variety of factors are driving the need for changes. These include: (i) increased use of secured credit throughout capital structures; (ii) an explosion in the growth of distressed-debt markets and claims trading that has made chapter 11 a takeover strategy; (iii) owner and creditor agendas that go beyond traditional restructuring; (iv) a change from debtors engaged principally in manufacturing to service companies, such as retailers and technology-driven enterprises relying less on hard assets and more on financial contracts; and (v) the increasing prominence of cross-border bankruptcy cases with international-law implications. A commission established by the American Bankruptcy Institute to study chapter 1 1 reform held five meetings in 2012 and expects to issue a report of its recommendations in April 2014.


The eye of the global financial storm stalled over Europe in 2012, where the tempest continues to threaten the 27-nation European Union, or at least the 17-member eurozone. Austerity measures implemented by Greece, Spain, Italy, Britain, and Portugal, among others, have proved to be both unpopular and unsuccessful. S&P downgraded the credit ratings of France, Italy, Spain, and six other European countries in 2012 - a reminder that Europe's economic woes are far from over. The only eurozone nations retaining their top AAA ratings are Germany, the Netherlands, Finland, and Luxembourg.

According to Eurostat, the EU's statistics office, the 17 countries that use the euro ended 2012 at a record high unemployment rate of 1 1.8 percent (more than 26 million), the highest level since the euro was launched in 1999.

Greece reached an agreement with its private creditors in 2012 to secure the biggest sovereign restructuring in history, paving the way for a second bailout of the debt-ridden nation and averting an economic collapse. Under the terms of the $172 billion bailout, Greece will reduce its debt to about 120.5 percent of its gross domestic product by 2020, from about 160 percent in early 2012. Banks that hold Greek bonds, which had agreed in October 2011 to take a 50 percent loss on the face value of their bonds, agreed in February 2012 to take a 53.5 percent loss on the face value, the equivalent of an overall loss of around 75 percent.

On March 30, 2012, the Spanish government announced an annual budget that includes $17.8 billion ($24 billion) in fresh spending cuts for the central government, one day after it faced a nationwide general strike and said it would continue its increasingly unpopular austerity drive. Shortly afterward, Spain, which faces record unemployment of more than 25 percent, officially joined seven other eurozone nations in recession. Spain's credit rating was cut by S&P to just above "junk" status in June 2012, setting the stage for yet another eurozone rescue. Shortly afterward, Spain agreed to accept a bailout of up to $100 billion ($125 billion) for its cash-starved banks. Spanish and Portuguese workers coordinated a general strike in November to protest continued austerity measures.

On May 6, 2012, in a popular backlash against austerity measures, voters in France ousted the pro-austerity administration of Nicolas Sarkozy and elected François Hollande as the first Socialist president of France since 1995.

Official figures released by the British government at the end of April 2012 indicated that Britain fell into its first double-dip recession since the 1970s, raising more questions about whether government belt tightening in Europe has gone too far. Near the end of 2012, George Osborne, Britain's Chancellor of the Exchequer and the architect of the nation's austerity program, informed Parliament that the government missed one of its self-imposed debt-cutting goals and will have to extend the belt tightening into 2018, a year longer than previously promised.

In July 2012, the Italian government approved $4.5 billion ($5.6 billion) in spending cuts for 2012 aimed at slashing the size of Italy's bloated public sector and delaying a new tax increase until after the first half of 2013.

A positive development in the European debt crisis came on December 13, when EU leaders agreed to place eurozone banks under a single supervisory authority. The agreement would put between 100 and 200 major banks under the direct oversight of the European Central Bank, leaving thousands of smaller institutions to be overseen principally by national regulators. The new system is designed to strengthen oversight of a sector that, under the supervision of national regulators, failed to prevent banks from amassing debt quantities that could endanger the finances of eurozone states and threaten the future of the currency. The supervision mechanism is to be fully operational by March 2014 and is subject to the approval of the European Parliament and national legislatures before it goes into effect.


Short-term growth nearly ground to a halt in India during 2012, dampening hopes that India, along with China and other non- Western economies, might help revive the global economy, as happened after the 2008 financial crisis. India is now facing a political reckoning, as the country's elected leaders address difficult, politically unpopular decisions. India's currency (the rupee) is falling, investment is down, inflation is rising, and deficits are eroding government coffers.

Faced with a sharply slowing Chinese economy, weak exports, and faltering investment, China's central bank unexpectedly announced in June 2012 that it would cut interest rates by a quarter of a percentage point. The interest-rate cut was the first by the central bank since December 2008, the last time policymakers in China - the world's second-largest economy - were deeply worried that they might be behind in responding to an economy receding faster than expected.

After three decades of torrid growth, China is encountering an unfamiliar problem with its newly struggling economy: a huge buildup of unsold goods that is cluttering shop floors, car dealerships, and factory warehouses. The glut of everything from steel and household appliances to cars and apartments is hampering China's efforts to emerge from a sharp economic slowdown. China is also confronting a major change in political leadership, with the election in November 2012 of Xi Jinping to the post of General Secretary of the Communist Party.

The world's third-largest economy also found itself treading water in 2012. In February 2012, Japan posted a record trade deficit, as the yen's strength and weaker global demand eroded profits at manufacturers and slowed the nation's recovery from the earthquake and tsunami in 2011. The trade gap widened to ¥1.48 trillion ($19 billion), and shipments dropped 9.3 percent compared with 2011, as energy imports surged.

On February 27, 2012, Elpida Memory, Inc., the last Japanese maker of computer-memory chips, sought bankruptcy protection, with liabilities of ¥448 billion ($5.5 billion). The company's failure to embrace the global consumer shift from computers to smartphones and tablets pushed the chipmaker into bankruptcy. This bankruptcy is the nation's largest since Japan Airlines Co. sought protection in January 2010 with ¥2.32 trillion in liabilities.

Sony Corporation more than doubled its projected net loss in 2012 to ¥520 billion, the worst ever, as additional tax expense hurt a company already battered by heavy losses in its television business, a strong yen, and natural disasters in Japan and overseas. It later announced a reduction in its global labor force of 10,000 employees (6 percent of its workers).


Despite stalled U.S. economic growth, fiscal deadlock in Washington, an intensifying European debt crisis, and a slowdown in China, Japan, and India, stock markets had a surprisingly good year in 2012. In the U.S., the Dow Jones Industrial Average, the S&P 500, and the NASDAQ Composite Index all ended 2012 substantially higher, despite losing some ground in the final days of the year as concerns about the looming "fiscal cliff" mounted. Stocks staged a late-day rally in the final session of 2012, enabling the Dow Jones Industrial Average to post a 7.3 percent gain for the year, as hopeful investors wagered that politicians would come up with a last-minute resolution to avert the impending crisis. The Dow rose 166.03 points on December 31, or 1.3 percent, to 13,104.14, marking the largest gain on the final day of the year in its history. The S&P 500 Stock Index jumped 13 percent in 2012, and the technology-heavy NASDAQ soared 16 percent during the year.

In 2012, unlike in 2011, nearly all European and Asian markets finished the year significantly higher. In Asia, Japan's Nikkei 225 was up more than 26 percent, with the Hong Kong Hang Seng Index up more than 24 percent. In Europe, the Deutsche Börse AG German Stock Index ("DAX") soared over 27 percent for the year, the EURO STOXX 50 Price Index finished up more than 15 percent, and London's FTSE 100 Index was up more than 7 percent.

World markets were buoyed by the European Central Bank's announcement on September 6 of a sweeping new program for buying the bonds of troubled eurozone countries, followed by the U.S. Federal Reserve's announcement on September 13 that the bank would start a third round of its "quantitative easing" bond-purchase program ("QE3") intended to push longer-term interest rates lower and encourage borrowing and investment.

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Mark G. Douglas
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